Thomas H. Lee Partners expected a smooth ride to its $7.5 billion fund-raising target, but has encountered a couple of bumps in the road: an accounting scandal at portfolio company Refco Inc. (NYSE: RFX), and worse-than-expected financial performance by pending portfolio company School Specialty Inc. (Nasdaq: SCHS). Existing TH Lee limited partners still expect the Boston-based firm to hit its target, but say that they might ask more probing questions about its due diligence practices.
Refco, a New York-based futures brokerage, represents the more serious problem, as it recently discovered that chairman and CEO Phillip Bennett had hidden $430 million that he owed to the company. Bennett resigned last Monday and immediately repaid the money, but two days later was arrested and charged with securities fraud. In the meantime, Refco’s stock had dropped more than 60% to a Wednesday closing price of $10.85 per share.
The stock price drop has been particularly tough on TH Lee, which is the company’s second-larges shareholder behind Bennett. It invested just over $500 million into Refco as part of a $2.25 billion buyout in August 2004 (approx. $8 per share). It recouped approximately $170 million by selling stock at $22 per share during Refco’s August 2005 IPO, but last week saw the value of its remaining stake plunge by as much as $870 million.
The School Specialty situation is completely separate from Refco, and perhaps is a reflection of lenders beginning to get jittery about mega-leveraged buyouts at high multiples. The Greenville, Wis.-based announced in May that it would be acquired for $49 per share ($1.5 billion with assumed debt) by Bain Capital, and later that TH Lee also would participate on the minority end of a 60%/40% split. The deal was scheduled to close earlier this month but was suddenly postponed after the lenders-Banc of America Securities, J.P. Morgan Securities and Deutsche Bank Securities-bailed on an agreed-upon $350 million senior note financing package, due to School Specialty’s lower-than-expected financial performance in August and September. School Specialties shares dropped 19% on the news, and finished trading last Wednesday at $35.64 per share.
Scott Sperling, a managing director with TH Lee, did not respond to requests for comment on the Refco and School Specialty situations. .